capital

In surfing with my internet news reader app recently, I ran across a documentary about wingsuits. Apparently cutting out television a few years ago had deprived me of much knowledge of this insane activity that makes hang gliding and skydiving appear to be the sport of chickens. (Wingsuits give you the simulated anatomy of a flying squirrel so you can jump off a cliff and then either fall to your demise, or preferably glide until you land with a parachute in the last instant.)

I couldn’t resist mentally seeing a comparison to the approach some entrepreneurs take to starting their businesses.

The world of small business already suffers from the confusion and delusion created by the glamorizing of tech startup unicorns or Shark Tank inventors that makes gathering and spending other people’s money seem so easy.

But there is another approach that’s been around much longer and is coincidentally called “taking a leap.” The idea is that you stake your life savings on the brilliance of your idea, your bullheaded determination and intestinal fortitude. You quit a stable fulltime job and put all of your time and energy into your business concept. Some entrepreneurs seem to forget to even put on the wingsuit. Splat.

Alternatively, there are other paths to business ownership which are much more comparable to the kiddie carousel that parents ride with their gleeful toddlers. It’s not nearly as exciting of a way in, but there are some distinct advantages when it comes to risk management.

Step one: Don’t quit your job. Suffer a while longer, perhaps years, and (Step two) perform the feat called capital accumulation. You save up enough money to invest in a venture, while maintaining your other obligations.

Step three: Look for a pretty sure thing. Not every productive business need be a society-changing, heretofore unimagined innovation. The world will not be offended if you choose to buy an existing business or copy another proven idea. Something that you can manage part-time while you keep earning a steady paycheck is best. Yes, this dampens the rush of terrifying excitement, but your odds of success improve immensely. An established, well-vetted franchise system that matches your capabilities and resources is a great choice.

Step four: Only quit that full time job when working in your own business offers you relatively more financial security for a reasonably predictable time into the future. And only then should you consider using your additionally accumulated capital to tinker with new business concepts and ideas to spin off into other ventures.

An alternate route in this kind of journey involves employing a prudent amount of debt capital. A lender will demand a credible business plan which in most cases serves to keep crazy flying machines grounded.

All of these conservative prescriptions may sound like they’re for cowards without the courage to challenge the Fates. But to me it’s more like the choice between the high roller in the casino, or being the house, which enjoys the boring but dependable profitability of a couple of percentage points of advantage over the long run.

It’s not unusual for a borrower to submit a loan proposal to a bank or a community lender like CEDF for more money than the numbers will support. It’s our obligation to make sure that the ratio called global debt service is in line with reality. This means considering all of the financial obligations of the borrower personally, as well as the capabilities of the business, can the loan be repaid at the contemplated terms? We won’t offer the loan if this condition can’t be met.

That’s also why typical loan covenants forbid a borrower taking on more outside debt without a lender’s approval. It can rock the boat and make the ship roll over.

Sometimes, if only a lesser loan amount can be supported, the loan officer will ask the applicant if the business plan can be realistically changed and still work. This is entirely a business judgement of the applicant. The lender wants to accommodate by approving a modified proposal, but a lender can’t promise that a smaller loan is workable.

Sadly, the enthusiasm and determination of borrowers sometimes outweighs their judgement. It’s frustrating when a CEDF business advisor, trying to help a distressed client some months down the line, hears the peril that the client is facing was caused, “because you didn’t give me enough money.” The unwelcome truth is that had the client been allowed to borrow more, odds are the bottom might have dropped out even sooner.

Another fantasy of inexperienced small business owners is the idea that getting free of debt and raising big money in the equity markets is somehow a dream come true. Appropriate debt financing is cheaper than equity financing. There’s no shame in using it.

It was probably inevitable that the tried and true friends and family approach to small business financing would make its way to the small screen. And while it is hard to imagine making a pitch for an equity investment or a loan to Uncle Charlie or your second cousin’s brother-in-law, it appears some people are doing it this way.

If this sounds slightly ridiculous to you, rest assured that the experts suggest it’s really just the internet age version of something much more conventional -- sending a note to request a conversation.

You must admit that for those who have built a community of dozens or hundreds of contacts, it only makes good sense to announce your fund-raising drive and leverage your network to lead you to what might be a workable source. Perhaps the confusion comes from the crowd-funding phenomenon and the assumption that you can finance your business start-up or expansion in $20 increments. Except for very unusual circumstances, this isn’t the model to rely on.

But in an era when banks pay hardly anything in the way of interest, people do look for more attractive investments that they can understand and perhaps monitor. It might be a good thing that you remembered to send your Aunt Polly a Christmas card every year.